HealthSouth Executives Had Inkling of Problems

Sep 5, 2002 | Wall Street Journal

Top executives at HealthSouth Corp. say the company had a hint of potential problems involving some of its Medicare billings in June, about two months before HealthSouth disclosed that changes in billing practices could lead to a potential earnings shortfall of $175 million.

Precisely what HealthSouth executives knew about the impact of the changes and when they knew it has been a point of contention between the hospital company and investors since Aug. 27, when HealthSouth announced the potential shortfall and said it would suspend earnings guidance. Over the following two trading days, HealthSouth's share price fell about 58%. The shares have rebounded slightly but are still down about 54% since the announcement.

HealthSouth, based in Birmingham, Ala., had scheduled a conference call Thursday with analysts to provide more details of how it arrived at the $175 million figure. But the call was postponed as of Wednesday, a company executive said, after HealthSouth learned that Medicare may issue further clarification of its billing policy regarding outpatient physical-therapy services.

HealthSouth is a large operator of rehabilitation hospitals, freestanding physical-therapy clinics and outpatient surgery centers.

In an interview last week in his office, Richard Scrushy, HealthSouth's founder and chairman, reiterated what the company said Aug. 27: that HealthSouth fully realized the impact that the billing changes would have on the company only about a week earlier, on Aug. 15. "That's when we went into shock," Mr. Scrushy said. It took the following week to determine the financial impact of the change, he added.

"We knew we were going to have to put out the news, but we needed to have a number," Mr. Scrushy explained. "You just couldn't do it without a number."

But Mr. Scrushy and William Owens, HealthSouth's chief executive officer since Mr. Scrushy relinquished that title Aug. 27, also said the company first got a hint of a potential problem around June 6. That was when one of the company's reimbursement lawyers happened across a May 17 "transmittal" on the Web site of the Centers for Medicare and Medicaid Services, the executives said. CMS is the federal agency that oversees Medicare, the federal health insurance program for the elderly and disabled. A transmittal is a type of memo sent to contractors who process claims for Medicare, updating them on payment issues.

The May 17 transmittal clarified billing rules for group therapy services, saying physical therapists must bill Medicare at a lower, "group" therapy rate, rather than the higher individual rate, if two or more patients receive services at the same time even if the patients are performing different exercises or activities. That severely limited HealthSouth's common use of "concurrent" therapy, in which therapists move between several patients who are in the same room though they may have different diagnoses.

The HealthSouth executives said, however, that the company didn't think the transmittal applied to its operations because the memo wasn't sent to the Medicare contractor who processes most of the company's claims. At worst, they thought it might apply to services at HealthSouth's freestanding physical-therapy clinics, which see a low proportion of Medicare patients; thus, any impact would be limited.

A CMS spokeswoman has said the transmittal was merely a "clarification" of existing policy, not a change in policy.

HealthSouth executives said company representatives discussed the issue in late June with the company's main "fiscal intermediary," Blue Cross Blue Shield of Alabama, and were led to believe that it applied only to therapy provided in doctors' offices. Blue Cross Blue Shield officials, however, declined to provide a statement to that effect in writing, HealthSouth executives said. A spokesman for Blue Cross Blue Shield didn't return several phone calls seeking comment.

Meanwhile, some therapists began hearing about the CMS clarification which has been endorsed by the American Physical Therapy Association, according to the group's Web site and began raising concerns, HealthSouth executives said. So HealthSouth decided in early July to seek clarification directly from CMS.

On July 11, the company's stock fell as much as 35% in intraday trading, due to "unfounded rumors" about the company, said Mr. Owens. The company issued a statement confirming its 2002 earnings projections, and the stock rebounded to close at $10. Based on what they knew at the time, the company was confident in re-affirming guidance, executives said.

"In July, it was an issue but not a crisis," Mr. Owens said.

On July 18, Mr. Owens said, company representatives met with CMS officials, but came away confused. On Aug. 6, Mr. Owens said, he informed Mr. Scrushy of what had been happening and sought his advice, which was that Mr. Owens should fly to Washington, D.C., to seek a definitive answer. The HealthSouth board was informed of the issue Aug. 8, they said.

On Aug. 15, Mr. Owens flew with two other HealthSouth executives to Washington, where CMS made it clear that Medicare's billing policy applied to all the company's outpatient services, including those provided at its rehabilitation hospitals, where as many as 70% of patients have Medicare coverage. That meant the impact would be substantial.

Should HealthSouth have alerted investors in either its quarterly conference call Aug. 7 or its regulatory filing Aug. 14 to questions within the company in June and July about billing practices? Mr. Scrushy replies that until Aug. 15, company executives believed any impact would affect HealthSouth's freestanding clinics only and would result in an impact of perhaps $20 million. In a company with more than $4 billion in revenue, he said, "that isn't material."

Meantime, investors and analysts note that Mr. Scrushy was able to benefit from a lucrative stock transaction in the spring. On May 14, he exercised options he had held since 1992 and simultaneously sold the related 5.3 million shares, making an indicated profit of about $52 million. In a statement at the time, the company said most of the options were due to expire May 15, with the rest expiring in June. The options had an exercise price of $3.7825 a share, the company said, and HealthSouth shares closed that day at $13.80.

"I have eight children," Mr. Scrushy said, "and every now and then you have to sell some stock."

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